Mr. Nicolas, age 40 is the proprietor of a small toy manufacturing business. He would very much like to get Mrs. Nicolas, age 42, involved in the business from an ownership perspective. To this end, Mr. Nicolas has come up with the following plan. Mr. and Mrs. Nicolas are both residents of Canada for tax purposes. 1. Mrs. Nicolas will incorporate Jolly Old Nicolas Lid. (JON Ltd.) and subscribe for all of the common shares. 2. Mr. Nicolas will transfer the assets of his current proprietorship to JON Lid. utilizing subsection 85(1) of the Income Tax Act. 3. JON Ltd. will pay Mr. Nicolas for the transfer of the proprietorship assets by assuming all of the existing proprietorship liabilities, issuing a note to Mr. Nicolas for the maximum possible amount and issuing preferred shares to Mr. Nicolas for the balance. Mr. Nicolas has informed you that his objectives with respect to the transfer of his business are to defer all possible capital gains and other income and any other possible adverse tax consequences while at the same time maximizing the amount of non-share consideration payable to him. The assets and liabilities of the proprietorship, as at December 31, 2019, are as follows: Assets Book value Fair market value Cash $20,000 $20,000 Accounts receivable 90,000 85,000 Inventories 86,000 2,000 Shares in Public Co. 50,000 20,000 Shares in Elf Services Ltd. 150,000 325,000 Land 200,000 339,000 Building 15,000 75,000 Equipment 35,000 5,000 Goodwill Nil 60,000 $646,000 Liabilities Bank loan $69,000 Accounts payable 23,000 Mortgage on building 18,000 $110,000 Mr. Nicolas has provided the following additional information: 1) The accounts receivable are net of a reserve for doubtful accounts of $6,000. This was the closing reserve for the previous fiscal period. (2) Elf Services Lid. is a Canadian-controlled private corporation that carries on an active business that provides consulting and other related services to toy manufacturers. Mr. Nicolas owns 15% of the common shares in this corporation and is not involved in the company's business operations. The common shares are the only shares outstanding in Elf Services Ltd. and no one related to Mr. Nicolas owns any of the 85% remaining common shares. Mr. Nicolas has been assured by the corporation's tax advisors that Elf Services Ltd. is a qualified small business corporation as that term is defined in the Income Tax Act. The book value of these shares represents the amount paid by Mr. Nicolas for the shares. The paid-up capital of these shares is $1,000
